Room at the top

What passes for ‘strategy’ in the business pages may be the deals, the share buy-backs and the heroic chief executive. But what actually makes a boardroom and a company tick is more multi-dimensional – it is the people. The danger sign raised by a new report, however, is that people skills are often in short supply.

The need for stronger interpersonal skills, better succession planning and more thorough selection processes was revealed in a survey released this week by the Corporate Research Forum (CRF) and the Performance & Reward Centre (PARC).

This is not HR professionals speaking, but rather the view from the boardroom. It is not that the senior business people surveyed – from some of Europe’s most successful companies – have undergone a Damascene conversion, nor do they necessarily have an HR background. It is rather that the wiser ones have always acknowledged that the ‘soft’ stuff is important.

“The most important thing, assuming [board members] understand the numbers and the business in general, is to actually understand people,” says Don Young, a former board director and co-author of the report. “That is typically described as soft, which is rubbish – it’s the hardest thing of the lot to do.”

He adds: “When you boil it all down, the hard stuff is commoditised. Everyone should know the numbers and everyone should understand the business in general. The really scarce skills are the soft ones.”

The report, The Role of the Board in Creating a High-Performing Business, promises to shake up the rather dry world of corporate governance, and move the debate on. Two years after the Higgs Report made a plethora of recommendations, largely about the composition of the board (see box right), most companies are at, or close to, compliance. But what, if anything, does this say about how good they are at running companies?

In compliance

The report’s authors, John Roberts, reader in organisational analysis at the Judge Business School, University of Cambridge, and Don Young, consultant, author and a former plc board director, found that companies complying with the Combined Code – which sets out standards of good practice for board composition and accountability – vary widely on performance. Compliance offers no real guide to effectiveness.

It is performance, not compliance, that affects the bottom line. “Stupid merger activity, bad strategies and misguided corporate behaviour have destroyed far more value than anything to do with a lack of probity,” says Young.

A study of US corporations by consulting firm Booz Allen Hamilton this year estimated that, in the worst performing companies, 87% of the value lost was caused by strategic mistakes and poor management, while only 13% was related to regulatory or compliance failures. This raises question marks over the emphasis on regulation in recent years through codes of compliance and the more draconian Sarbanes-Oxley legislation in the US, which was introduced to improve the transparency of public companies.

The policing elements of the Combined Code have always taken precedence over strategy, according to the report authors Robert and Young. They do not, they stress, wish to see the code repealed or amended. But they warn against it being pressed into service for a function for which it was not designed.

Roberts says: “Either you understand what a code can and cannot do, and you understand that investors still need to rely on the trust and integrity of boards. Or, if you have to go down the ‘We’ll only trust what is visible’ route, then you also need to specify much more about the strategic role of the board, which has never been elaborated on.”

The real villain, in the authors’ view, is a branch of economics known as ‘agency theory’. This suggests that executives will be opportunistic and self-interested, and can only be brought into line through the ‘carrot’ of share price-related pay and the ‘stick’ of independent non-executive directors to police their moves.

Creating a division

The authors argue that this view has been highly influential in the past 20 years, and has damaged the unitary nature of the board. A misapplication of the code is in danger of reinforcing this by emphasising the controlling role of the independent non-executives.

In law, however, all directors have equal status and the board is unitary. Thus, agency theory creates unhelpful divisions and an extreme waste of resources, as none of the business experience of the non-executives is brought into play, and they are relegated to a policing role.

In extreme cases, the board is “effectively divorced from the business”, the report concludes, and there is an atmosphere of mutual suspicion and defensiveness. It doesn’t even curb excessive executive pay. Senior executives seek higher rewards for higher insecurity. Share options can create a mutuality of interest between executives and investors to keep share prices unrealistically high, thus creating rather than aligning executive self-interest.

Worse still, executives may indulge in a range of unsustainable actions aimed at affecting the share prices, but undermining the real business.

The latter was clearly a feature at Enron and WorldCom.

The authors categorise boards into two groups: ‘investor driven’ and ‘strategy-led’. The former is short-term, reactive and often features the fractures created by agency theory. The latter operates as a unified team, is knowledgeable about the business and deploys all its talents to help develop the business.

The report is qualitative, based on in-depth conversations with more than 30 experienced board members. The authors say that the best way to learn about behaviour is by talking to people. These conversations provide fascinating glimpses into how the corporate board operates, the differing ways of handling meetings, using informal communication channels, understanding the business and reaching decisions.

Young says: “The best and possibly the only way [to improve boardroom skills] is mentoring or coaching. One-to-one coaching can generate feedback and they can then work through it. In my experience, the best way that people generate the range of skills and perspectives is by having good role models.”

Implications for HR

There are considerable implications for the HR profession (see box on page 18) if boards take note of the CRF/PARC report findings. But there is an even bigger prize at stake. This involves a profound change in the way in which business performance is assessed. If the authors are correct that the cynical assumptions of agency theory do not deliver commercially, the door opens for a more humanistic approach.

The timing could not be better. From the end of this financial year, every listed company in the UK will have to report on its human capital as part of the Operating & Financial Review (OFR).

Roberts adds: “We don’t know how the OFR will go. What we think is important is that at least the board has to think about the qualitative issues: quality, personnel development policies, customer opinions, and technological changes.”

The lesson from the CRF/PARC study is profound. Senior directors, both in their own working relationships and in their priorities for the organisation, need to be far more focused on human skills and dynamics. After all, the board, like the company, consists of people. This basic observation – sadly lacking from much economic theory – means that the agendas of senior HR professionals and board members can move closer together.

Key lessons for HR

Address selection, coaching, succession planning and teamwork at a senior level. Also, put in place long-term leadership development programmes.

“There is a strong relationship between companies that take a long-term strategic view and companies that develop talent,” says Don Young. “And there is a strong relationship between companies that take a short-term instrumental view and that buy talent.”

Nick Starritt, a director of PARC and formerly board-level HR director at BP, says HR managers have to ensure that they provide a “pipeline of talent”, ready to step up to senior levels.

The HR function has to bring real data to the board to gain credibility. This means employee survey results, and data on staff turnover, absence, leadership development, and cover ratio (contingency) for key jobs, says Starritt, who is also a non-executive board member at Northgate Information Systems.

“That is the key imperative: that HR people turn up at the board table with data,” he says. “And they should do it in a way that resembles the rigour with which their financial and marketing colleagues bring their data forward.”

1992 The Cadbury Report specified independence of non-executive directors, that they should be appointed for specific terms and that contracts should be limited to three years. It also recommended the establishment of remuneration and audit committees.

1995 The Greenbury Report instigated greater levels of disclosure on directors’ pay, and for a remuneration policy to be established. Notice periods to be limited to 12 months.

1998 The Hampel Report emphasised principles of good governance, and required the board to be held accountable for all aspects of risk management, not just financial. Guidance amalgamated into the Combined Code.

2003 The Higgs Report recommended an end to joint chairman/CEO roles; for individuals not to hold more than one FTSE100 chairmanship; and for the board to contain at least one-third non-executive directors. Board should review its performance. Revision of Combined Code.

Case study: an HR director on the board at the RAC

Linda Woolston, former HR director at motoring services company the RAC, describes her experience on the board as part of a fully-engaged team that was ‘strategy-led’.

Its unitary status was such that the CEO at the time, Graeme Potts, “would be happy if he couldn’t tell which department [a board member] came from when they contributed”, Woolston says.

The board was put together by Potts immediately after demutualisation in 1999, and there was a shared commitment to make the business more commercial.

“Within the time we were there, we trebled profitability, increased business and increased employee satisfaction,” she says. This came from the shared sense of purpose that the authors of the CRF/PARC study identify as crucial.

“I rarely got to talk about HR – everyone was people-focused,” says Woolston. She also took the leading role in setting the board meeting agenda, ensuring a mix of day-to-day and long-term issues, and ensuring people development and strategy were developed together.

Potts adds that Woolston was able to use her facilitating skills with board members to bolster the team’s effectiveness. He says: “Linda contributed to strategic thought, and was effective in leveraging her HR skills and encouraging me and the rest of the team to work through issues positively.”

Neither Linda Woolston nor the RAC took part in the CRF/PARC survey, the participants of which are anonymous.